Understanding the key differences between each trust.
Employee Benefit Trust (EBT)
At its simplest, an EBT is a trust that is set up by the company for its employees. Typically, companies set up an EBT for two key purposes:
- To hold shares that can later be issued to employees when they exercise their options.
- When setting up an employee share scheme, the shares are issued to the EBT, and the employees’ options are granted over those shares.
- To purchase shares from employees when they leave the company.
- This is a tax-friendly alternative to a company buyback, as the employees will only pay Capital Gains Tax on the sale rather than a dividends tax if it were a buyback.
It’s easier to understand how an EBT works by looking at the three parties involved:
- The Settlor: this is usually the company itself, but it can be an individual shareholder within the company. They are responsible for adding the shares (or cash) to the EBT.
- The Trustee: this is the person who is entrusted to manage the EBT for the Beneficiaries. A Trustee can be an individual, group of people or a special trustee company.
- The Beneficiaries: the employees, former employees and even close relatives who receive shares. While the Trustee legally owns the EBT, the Beneficiaries have an equitable stake in it.
It will require lawyers to draft the documents for an EBT, but once set up the ongoing management of it is handled by the Trustee, who is legally bound by those documents and must put the best interests of the Beneficiaries first.
Can I manage an EBT on Vestd?
Yes. In fact, some of our customers already do.
Once the EBT is added as a shareholder to Vestd, you can issue shares to employees from the EBT and complete stock transfers back to the EBT, just as you would with any other shareholder.
All the relevant documents will be automatically filed and digitally stored on the platform ready for tax returns.
Employee Ownership Trust (EOT)
An EOT is a specific type of EBT.
As the name suggests, in an EOT, ownership (or at least a controlling stake) is transferred by specific shareholders, typically founders, to its employees.
The key difference between EBTs and EOTs is that not all employees have to participate in an EBT.
Companies set up an EBT to benefit employees, whereas companies – or individual shareholders – sell a majority shareholding to an EOT so the company becomes employee-owned.
A company may decide to set up an EOT for a variety of reasons:
Succession planning: the founder, owner or majority shareholder may be retiring or moving onto a new venture. Rather than selling to a third party, they set up an EOT as a thank you to their employees for their hard work over the years.
And if the EOT holds more than 50% of the company’s share capital, the seller won’t pay any Capital Gains Tax. It’s win-win.
It’s worth adding that the EOT must maintain >50% control for at least two financial years, otherwise the founder is liable to pay the CGT they avoided through setting up the EOT. If the controlling interest is lost at a later date, the EOT is liable for the CGT.
Encourage loyalty and growth: a company can be founded as an EOT as a way to attract and retain the best talent. When an employee joins, they immediately own a slice of the pie and have a vested interest in growing the company.
As we alluded to above, EOTs must include all employees. In fact, there is an “all-employee benefit” requirement you must meet to maintain the tax advantages of EOTs.
Meaning all employees must benefit from the EOT on the same terms. Now those terms can vary based on factors such as length of service, hours worked or salary – this will all be decided upon when creating the EOT with your lawyers.
The EOT makes it easy to distribute and buy back shares as employees come and go. An employee is a beneficial owner of their shares for as long as they’re employed, and immediately relinquish their beneficial ownership when they leave (i.e. they buy the shares at current market value on joining the company, then sell the shares at market value on leaving). Meaning there’s no need to constantly issue or buy back shares.
Employees can also benefit from income tax-exempt bonuses of up to £3,600 per year, so long as the bonus is paid to all employees on the same terms (the varying factors mentioned above can be applied).
However, anyone personally holding 5% or more of the company’s shares (or who has done) may not be a beneficiary of the EOT and will be subject to income tax at their usual rate.
Setting up an EOT is significantly more complex than for an EBT. EOTs require valuations, tax and legal documentation to determine how the initial purchase of the majority shareholding will be funded.
Typically, the seller (be it the founder, owner or majority shareholder), will loan the EOT the money to buy them out, and the EOT will be responsible for reimbursing the seller over time. This of course requires ironclad legal documentation, so as you can imagine the setup costs are quite high.
Does an EOT affect EMI eligibility?
No, EOTs are still eligible for EMI and other non-tax-advantaged share schemes.
However, the EOT must maintain majority control otherwise tax implications will apply. Likewise, anyone that holds over 5% in the company – through the EOT, EMI or other equity – will no longer be a beneficiary of the EOT.
What other forms of employee ownership are there?
We go into more detail about the other types of employee ownership models, with a few familiar names making the list.
Our team, content and app can help you make informed decisions. However, any guidance and support should not be considered as 'legal, tax or financial advice.'